Sustainable Finance for Energy Transition Efforts: An Update from Indonesia

By Dandy Satriatama

A 2015 study, estimated that unmitigated climate change could drastically reduce the income of the average person on Earth by roughly 23 percent in the year 2100. The findings further indicate climate change will widen the global inequality between rich and poor countries. The world’s poorest 40 percent of nations are predicted to see a considerable decline in their average income due to climate change, while the richest 20 percent may see a little increase.

In order to take action in preventing catastrophic climate change, countries dedicated to decreasing greenhouse gas emissions signed the Paris Agreement in 2015. Indonesia is one of the countries that agreed to make its economic activities more sustainable. It has set ambitious targets for renewable energy development and aims to reduce greenhouse gas emissions by 29 percent by 2030.

In last year’s G20 event held in Indonesia, sustainable energy transition was one of the three key pillars proposed. This pillar states that the G20 economies play an important role in enabling optimal energy sustainability. Moreover, in the recent ASEAN Finance Ministers and Central Bank Governors Meeting 2023, part of ASEAN 2023 Chairmanship events, the Finance Ministry and Indonesia’s Financial Service Authority (OJK) discussed economic transitions and sustainable finance, as they believe that the ASEAN region is one of the most vulnerable to climate change impacts.  

What efforts have been made by Indonesia so far?

Sustainable finance has become a crucial tool in Indonesia’s energy transition efforts; promoting sustainable development by aligning financial practices with environmental, social, and governance (ESG) criteria. Sustainable finance can be incorporated into Indonesia’s energy transition strategy in several ways:

Green Bond

OJK introduced Regulation No. 60/POJK.04/2017 on the green bond framework which specifies the requirements and issuance process for green bonds in Indonesia. Leveraging this regulation, the Finance Ministry issued the country’s first green sukuk (Islamic green bond) in 2018 to mitigate climate change and advance the UN Sustainable Development Goals (SDGs), which also became the global first green sukuk at that time. The Islamic debt instrument has targeted five areas including renewable energy, energy efficiency, disaster risk reduction, waste-to-energy projects, and sustainable transports. 

Sustainable Finance (SF) Initiatives

OJK launched the SF Roadmap Phase I (2015-2019) and SF Roadmap Phase II (2020-2025). The roadmaps lay out the country’s initiatives in each five-year period and the creation of a comprehensive SF ecosystem that will include government, institutions, corporations, and bank and non-bank institutions.

ESG Framework and Manual for Infrastructure Financing

Last November 22, the Ministry of Finance, with support from UNDP and the Government of Canada, launched the ESG framework and manual for government support and facilities in sustainable infrastructure financing. The initial implementation focuses on housing and water sector infrastructure projects.

Energy Transition Mechanism (ETM) Country Platform

The ETM serves as a mechanism to gather funding from the public and commercial sectors and then accelerate the energy transition to cleaner energy, one of which is through the early retirement of coal-based power plants. Launched at the end of 2022, ETM has allocated funds of around USD 500 million and will attract and mobilize more than USD 4 billion to retire 2 GW of several coal-fired power plants, which is expected to reduce 50 million tonnes of carbon emissions by 2030 and 160 million tonnes by 2040.

SGD Indonesia One

Another blended financing platform, managed by Sarana Multi Infrastruktur Corporation (PT. SMI), mobilizes financing from various sources to provide financing support that back SDG-related projects. The sources of financing come as blended finances from loans, grants, sukuk, equity, as well as technical assistance. As of March 2022, SDG Indonesia One has reached cumulative funding of USD 3.2 billion, and it has financed around 60 renewable projects since 2018.  

Carbon Cap, Tax, and Trade

Since the announcement of Law No. 7 of 2022 concerning Harmonized Taxation (the Law), the government of Indonesia has included a carbon tax in the country’s new tax system. The carbon tax will set a principle that is called the “polluter pays” principle, meaning that when a tax subject produces carbon emissions beyond the cap stipulated by the government they will have to pay the tax. The initial carbon tax price in Indonesia based on the Law is set with a minimum rate of IDR 30 (USD 0.002) per kg of CO2 or equivalent to USD 2.3 per tonne of CO2. In comparison to other nations Indonesia has one of the lowest carbon tax rates in the world.

For instance, Finland was the first country to implement a carbon tax in 1990, imposing USD 24.39 per tonne of CO2. For the Southeast Asia region, only Singapore implemented this carbon tax policy in 2019. Carbon tax rates in Singapore, Japan, France, and Chile are imposed at a range of tax rates from USD 3 to USD 49 per tonne of CO2e.

However, the Finance Ministry has yet to issue the implementing regulation for the carbon tax, which has been delayed since its initial planning on April 2022. The Finance Minister, Sri Mulyani mentioned recently that her Ministry is still deliberating on the technical guidelines and mechanism of the carbon tax. On the other side, OJK is also getting ready to start the carbon exchange that will go into effect in September 2023, but it will first release the OJK regulation on carbon exchange, which is scheduled for release in June 2023.

What are Indonesia’s international collaboration efforts? 

Under President Jokowi’s leadership, the Indonesian government is vigorously establishing real and implementable green economy promises for the sustainability of the nation’s economy and environment. President Jokowi himself spoke at International Industry Trade Fair “Hannover Messe 2023” in Germany, stating that Indonesia is committed to closing all coal-based power plants by 2050. He also invited German investors to participate in the energy transition by doing green investments in Indonesia, to make energy affordable for all people.

The result of the ETM country platform launch in 2022 is that Indonesia through PT. SMI has secured the commitment from Asian Development Bank (ADB) to onboard in supporting the country’s noble efforts. President of ADB, Masatsugu Asakawa, mentioned that ADB has planned to allocate funding up to USD 2 billion to assist Indonesia’s energy transition efforts.

In the ADB’s 56th Annual Meeting, the Indonesian finance minister also invited the South Korean government to be involved in Indonesia’s ETM country platform projects that are focused on renewable energy projects and sustainable infrastructure development.

Furthermore, in the International Monetary Fund (IMF) and World Bank (WB) Spring Meetings held on 15 April 2023 in Washington, Indonesia’s finance minister and Finland’s finance minister co-chaired the 9th Coalition of Finance Ministers For Climate Action Meeting. The talk emphasized how Finance Ministers around the world play an important role in influencing fiscal policies that promote energy transition and resource allocation in a sustainable manner and increase green investments in each country. Some of the real implementations recommended included incentives to the public and private sectors for sustainable commercial efforts, clear regulations and frameworks, and applicable technical guidelines.   

What are the opportunities and challenges?

Opportunities

The country has great potential for renewable energy development, with abundant natural resources including solar, wind, geothermal, and hydroelectric power. According to the Ministry of Energy and Mineral Resources, the Indonesian government indicated to install about 417.8 Gigawatt (GW) of new energy that comes from Ocean (17.9 GW), Geothermal (23.9 GW), Bioenergy (32.6 GW), Wind power (60.6 GW), Hydropower (75 GW), and Solar power (207.8 GW). Leveraging this potential, Indonesia is considered to be one of the most promising countries in the Southeast Region, aside from the Philippines, to encourage renewable energy investment and is included in the top 40 countries for renewable energy investment.

Challenges

Despite the opportunity and efforts made by the Indonesian government, there are still challenges for the country in achieving a smooth energy transition to reach the carbon reduction target. These challenges can vary from high-cost renewable energy technology, lack of infrastructure, and limited access to finance, to unclear regulations and incentive mechanisms for businesses.

For instance, although it has been about 6 years since OJK issued a green bond regulation, there has been little progress made by local companies to issue green bonds for renewable projects. The Institute for Essential Services Reform (IESR) in their Sustainable Finance Outlook 2023 estimated that domestic green bond issuance only accounts for 0.01 percent of the nation’s overall green bond issuance throughout 2018-2021. As of March 2022, only two private companies issued green bonds. Small portions of corporate-green bond issuance are due to uncertain fiscal non-fiscal incentives, which necessitates immediate clarity in regulations and incentive mechanisms.

The financing of renewable energy projects has also stalled due to a lack of bankable projects. Four of the largest commercial banks are still funding coal-based projects in 2021. This is expected given the remaining high cost of renewable energy technology that results from insufficient research and development. 

Conclusions

Indonesia has done a great job in pursuing the commitment to energy transition from fossil fuel to cleaner energy. The government is applauded for its actionable steps on the international stage, proving that Indonesia could be the leader in the region for its renewable energy initiatives. But, more work needs to be done for the implementation. Prioritizing clarity regarding carbon tax regulation, as well as fiscal and non-fiscal incentives, is necessary to encourage the switch to renewable energy. A regulatory structure that obliges businesses to divest from fossil fuels is also essential to support the whole effort.